Supreme Court Dismisses Revenue Appeals as Withdrawn in South Eastern Coalfields Ltd. Service Tax Matter

Background of the Dispute

The controversy originated from the treatment of various contractual recoveries made by South Eastern Coalfields Ltd. (SECL) under agreements with coal purchasers, contractors and suppliers of materials. These contracts contained standard clauses providing for:

  • Compensation for delay or short performance
  • Penalties for breach of contractual conditions
  • Forfeiture of earnest money and security deposits
  • Recovery of liquidated damages for non-compliance with contractual terms

The central question was whether such amounts, recovered by SECL upon breach or non-fulfilment of contractual obligations, could be brought to tax as consideration for a declared service under Section 66E(e) of the Finance Act, 1994, namely:

“agreeing to the obligation to refrain from an act, or to tolerate an act or a situation, or to do an act”.

Show Cause Notice and Alleged Service Tax Demand

A show cause notice dated 10 April 2017 was issued to SECL. The notice alleged that:

  • During the period July 2012 to March 2016, SECL had recovered an amount of ₹265,99,46,400 from coal buyers, contractors and suppliers.
  • These recoveries represented contractual penalties, compensation, liquidated damages and forfeiture of earnest money/security deposits on account of breach or non-compliance with contractual terms.
  • The department treated these receipts as consideration for the declared service of “agreeing to the obligation to refrain from an act, or to tolerate an act or a situation, or to do an act” under Section 66E(e) of the Finance Act, 1994.

On this basis, the show cause notice proposed a service tax demand of ₹35,26,59,837 (including cess) on SECL, contending that the contractual recoveries represented taxable consideration.

Order of the Principal Commissioner

The matter was adjudicated by the Principal Commissioner. By order dated 18 December 2018, the adjudicating authority:

  • Confirmed the service tax demand of ₹35,26,59,837 (including cess), as proposed in the show cause notice;
  • Held that the contractual recoveries had to be viewed as consideration received by SECL for “tolerating” the breach or non-performance by the counter-parties;
  • Treated such tolerance as a declared service under Section 66E(e);
  • Imposed interest and penalty, proceeding on the premise that SECL had rendered a taxable service by allowing the contracting parties to breach or deviate from the agreed terms against payment of compensation or penalties.

SECL, aggrieved by this order, carried the matter in appeal before the Customs, Excise and Service Tax Appellate Tribunal (CESTAT), Delhi.

CESTAT’s Examination of Statutory Provisions

When the matter came up before CESTAT, the Tribunal undertook a detailed analysis of the statutory framework under the Finance Act, 1994, particularly:

  • Section 65B(44) – definition of “service”;
  • Section 66B – charging section for service tax;
  • Section 66E(e) – declared service relating to agreeing to refrain from an act, tolerate an act/situation, or do an act;
  • Section 67 – valuation of taxable services and the concept of “consideration”;
  • Section 68 – liability to pay service tax.